Question

Suppose a profit-maximizing firm in a competitive market produces rubber bands.When the market price for rubber bands falls below the minimum of its averagetotal cost, but still lies above the minimum of average variable cost, in the shortrun the firm willa. experience losses but will continue to produce rubber bands.b. shut down.c. earn both economic and accounting profits.d. raise the price of its product.

Answer 1

The correct answer is option a.

Step-by-step explanation:

In the given example, a profit-maximizing perfectly competitive firm is producing rubber bands. The average total cost of producing is higher than the price per unit of the product. The firm will be incurring a loss. But the average variable cost is lower than price. This means the price is able to cover variable costs.

The firm in this situation will continue to produce in the short run, Though in the long run if the price is still lower than the average total cost the firm will exit the market because of incurring losses.